The Wholesale Investment Grade Model portfolio has had great returns with low volatility over 2023. The broad strategy has been to accumulate high quality credit assets at good levels, being patient to wait for attractive relative value opportunities where they arise. We have also moved to position constructively in interest rate duration as Australian 10-year bond yields reached 4%.
Fixed income stands out to us as offering good absolute and relative value especially over 2023. The persistent strong growth and strong inflation story of 2022 is over. This sets up the cycle to favour bonds, where the shift in the balance of risks from upside inflation to downside growth means lower bond yields and strong fixed income returns.
Given this outlook, our portfolio positions are as follows:
- Investment grade bonds outperform high yield bonds during recessions – so we have 100% exposure in Investment grade. Australian credit should also be be insulated should credit conditions deteriorate meaning credit spread widening will be more muted versus global credit.
- Within the portfolio, we have a bias towards Australian duration with a view that a future economic slowdown will start to weigh on lower bond yields.
- Despite concerns in the banking sector globally, we like Australian Tier 2 issues from large institutions like CBA 6.704% 38s and ANZ 6.736% 38s which have a low probability of reaching a non-viability event (unlike Credit Suisse).
The Wholesale Investment Grade Model portfolio has outperformed the AusBond Credit Index by over 2% over the last six months. Positively, Australian credit spreads as measured by the AusBond BBB Index have tightened over that period. On interest rate duration, we have looked to tactically play duration within the 3-4% Australian 10-year bond yield range. That is, add duration when Australian 10-year bonds have reached 4% and sell duration as Australian 10-year bonds have closed in on 3%.
Patience will remain a virtue over 2023. While eventually the downside risks to growth are likely to dominate market pricing, it may take time to play out. Thus, we are embracing the good income on offer in high quality credit assets and increasing interest rate duration first, with the aim to add later to riskier assets once they start to go on sale.
